Pick Of The Litter: Why Sbc Is The Baby Bell To Beat

When Southwestern Bell Corp. shelled out $1.4 billion for the cellular-phone properties of Metromedia Co. in 1987, its stock dropped $7 in a matter of hours, and rival executives jeered. After all, Southwestern Bell--renamed SBC Communications Inc. last year--had paid $45 per potential cellular customer (or pop as they say in the business) when no one else had ever paid more than $30. "Everyone figured we were just a rich Baby Bell with bad judgment," says James S. Kahan, senior vice-president for strategic planning.

Not any more. Since that day, the fifth-largest Baby Bell has been on a moneymaking streak. The Metromedia properties are now worth more than $300 per pop and have helped give SBC the highest market penetration of any major cellular operator. The number of local phone lines in its five-state territory, anchored by a booming Texas, grew by a record 3.6% last year, compared with 3.1% for all the Bells. The $500 million investment SBC made in 1990 in a British cable-TV joint venture with Cox Enterprises Inc. is worth an estimated $900 million today. It has just bought 40% of Chilean communications conglomerate VTR Inversiones for $316 million, as an entree to the lucrative South American market.

STRING OF HITS. Even its 10% stake in Telefonos de Mexico, bought for $1 billion in 1991, has almost doubled in value. That's despite a 45% plunge in Telmex shares since Dec. 15, which caused SBC to take a $34 million write-off in the first quarter. Analysts say that, despite the near-term damage from the peso crisis, Telmex is a long-term plus for SBC, given the desperate need for more phone connections in Mexico.

The string of hits has made SBC the best-performing of the Baby Bells, which were spawned by the 1984 breakup of AT&T. SBC shares since divestiture, including reinvested dividends, have risen 654%, compared with an average of 461% for the other six Baby Bells (chart, page 72), according to consultants J.M. Lafferty Associates Inc. Why? Because 35% of SBC's earnings come from unregulated business such as cellular phones and overseas investments--roughly three times as much as Ameritech Corp., the next-most-diversified of the Baby Bells. "SBC is like none of the other phone companies," says portfolio manager Michael G. Trotsky of Boston's Independence Investment Associates. "It's a growth play, and it's diversified."

SBC's future, though, is not quite as certain. Once phone deregulation arrives, the carrier is bound to face tough competition for urban customers in its core local-calling business. And with a global frenzy of telecom dealmaking under way, finding bargains like Telmex will be harder. While SBC gets kudos from Wall Street for not throwing money at every new technology development that comes along, the company may be dealing itself out of some big opportunities.

Take personal communications services (PCS), a wireless technology better suited than cellular is for moving data in addition to voice. AT&T, Sprint Corp., and others are bidding billions at federal auctions for PCS spectrum space, so they can build national PCS networks. But SBC, banking that cellular features will be be able to match those of PCS over time, has bid less than $40 million to date on licenses that would only fill in gaps in its cellular coverage.

SBC is also conspicuously low-profile on the Information Superhighway. While Bell Atlantic, U S West, and others develop movies-on-demand, SBC has only a vaguely worded agreement with Walt Disney, Ameritech, and BellSouth to develop consumer programming. It also has an under-$10 million pilot project with Microsoft Corp. to test interactive services in Richardson, Tex. SBC's attempt at an I-way megadeal--a $4.6 billion joint venture to share 21 of Cox's cable stations--was nixed by SBC Chairman and CEO Edward E. Whitacre Jr. soon after U.S. regulators lowered cable rates last April. "That was a tough call," says Charles F. Knight, an SBC director and CEO of Emerson Electric Co. "None of us know where cable is going, but Ed decided the timing wasn't right. It's great to see such discipline."

Whitacre's discipline is the bottom line. The board tapped him as CEO in 1990 and gave him a mandate to tighten up SBC's cushy culture. A 31-year SBC veteran, Whitacre yanked managers out of a plush St. Louis headquarters and moved them into rented space in San Antonio. He sold three of the company's seven jets, and demanded fast returns on all ventures.

STIFLING COMPETITION? The strapping 6-ft.-5-in. executive has been known to wander the halls asking employees: "What have you done for my stock today?" Says Whitacre: "My personal objective is to get double-digit earnings as long as I'm around." He has already done it three years running. In 1994, profits surged 14.9%, and sales grew 8.7%, to $11.6 billion. "SBC's still branded a Baby Bell, but people don't realize how much he has transformed the company," says Oppenheimer & Co. analyst Stephen Yanis, who expects annual profit growth of 11% through 2000, compared with 6% for the other Bell companies.

Meeting such aggressive growth targets will get more complicated when local competition arrives. SBC has invested less in its local phone network than other Bells. For example, according to Federal Communications Commission documents, it has been slowest to install digital switches. It has also battled to maintain its local monopoly, while other Baby Bells have been willing to give ground in return for more freedom. "SBC is the worst of the Baby Bells at abusing the process to stifle competition," says MFS Communications Co. CEO Royce J. Holland. "They're all for competition, so long as it's outside their service territory."

Inside SBC territory, some 20 competitive access providers (CAPs) are already cherry-picking corporate accounts by offering cheaper links to long-distance lines. That stream of rivals could soon be a flood: The Texas legislature may introduce a bill in early March that would open local phone services to competition this fall. "We're at a critical juncture," says SBC Vice-President for Marketing J. David Gallemore, "and we want to make our welcome mat smaller than anyone else's."

One way is to upgrade the SBC network. SBC has agreed to spend $1 billion over four years to add multimedia capabilities to its system--if Texas eliminates regulations that effectively cap SBC profits at a 13.3% rate of return on invested capital. The company has also bumped up its advertising for local calling by 27% (after seven flat years) and has set up marketing teams to defend vulnerable liches.

CALLER ID. SBC has mounted a special effort to win back the younger crowd. In 1992, its research found that people under 35 feel little loyalty to their phone company and have a defection risk of 100%, vs. just 17% for over-55s. So its marketing unit in Austin, home to the University of Texas, came up with a variety of youth-oriented packages and offered them at college registration sessions. Some 35% of UT students bit--spending about 40% more than average on such features as SBC's voice-mail service. Now, SBC is accelerating the rollout of mther special features, such as caller ID.

SBC can thank the cellular business for giving it a crash course in consumer marketing. With 2.9 million wireless subscribers--930,000 of them added last year--it is neck and neck with AT&T/McCaw, the largest U.S. operator. SBC's Mobile Systems unit works hard to offer the right mix of features and prices: It signed up 7.4% of its potential customers in 1994, compared with about 5% for the industry overall. "We have to make people realize that it's just a phone--not a toy for oilmen and richies," says Mobile Systems CEO John T. Stupka.

Whether SBC can translate the lessons of cellular to its core business is still unclear. With only six of the nation's 50 largest cities in its region, SBC is less exposed to competition than its brethren in densely populated areas. That could protect it from poachers in the early days of deregulation, but not over the long haul. Still, says S.G. Warburg & Co. analyst William Deatherage, "SBC has got a good batting average. They're not a company to bet against." Just ask the shareholders.

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